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Topic: Wealth Management

How to find a good stock broker

A good stock broker can help you manage your investments if you don’t want to do it yourself. However, good stock brokers have always been hard to find. And, as any good stock broker or experienced investor can tell you, bad brokers are all too common.

By “bad brokers,” we mean those who put their own interests above their clients’. Keep in mind, however, that a bad stock broker can do this in a perfectly legal fashion, by catering to their clients’ whims and weaknesses.

Here are four ways to tell if brokers are putting their interests ahead of yours:

1. Read between the lines of stock broker advice. Brokers often use “hold” or “reduce” or “source of cash for new buying” as a euphemism for “sell.” That’s because they don’t want to offend potential underwriting or corporate-finance clients, who generate far more profit than individual investors.

By the way, that’s not a problem for us because we stay out of the underwriting and corporate-finance businesses. Further, if we think a stock’s prospects make it a sell, we say so in our newsletters and our Inner Circle service. We’ll say a stock is a “hold” when we feel there are better choices for new buying, but we still like its longer-term prospects. After all, every sale involves some costs. So, as a general rule, we advise against treating our “hold” recommendations as sells.

Invest in your Financial Future for FREE

Learn everything you need to know in '9 Secrets of Successful Wealth Management' for FREE from The Successful Investor.

Secrets of Successful Wealth Management: 9 steps to the life you've always wanted, before and after retirement.

 I consent to receiving information from The Successful Investor via email. I understand I can unsubscribe from these updates at any time.

2. Keep “targets” in perspective. Targets tend to push up your trading activity and commission expense because they give you a rationale for selling whenever a stock you own hits its target. This helps explain the popularity of targets in stock broker research.

We don’t publish targets for several reasons. One is that they draw too much attention to predictions, which are the least reliable part of the investment decision-making process. They also spur investors to sell their best picks way too early. After all, your best picks are those that did way better than you ever expected. However, if we do feel a stock is a sell, we’ll immediately let you know in our newsletters, or in our Inner Circle service.

3. Say no to frequent trading. Some trading suggestions will inevitably make money. But as a rule, active trading generates high commissions for the stock broker, and weak profits, or even losses, for the client.

Bad brokers exploit this situation by churning their clients’ accounts — carrying out short-term trades, sometimes without the client’s express consent. This generates big commissions for the broker, and can temporarily pay off for the client when the market is soaring. But it eventually backfires, and the client loses money.

4. Be skeptical of new issues and structured products. The odds are against you in new issues. That’s why we rarely, if ever, recommend them.

Insiders decide when to bring a new issue to market. Obviously, they do so only when it’s a good time for the company or its insiders to sell. That means new issues tend to come to market when the company or its industry is enjoying what may be a temporary surge in profit. This generally isn’t a good time for you to buy.

Structured products are created when brokerage underwriting departments take genuinely desirable securities and slice and dice them into what you might call Frankenstein investments. These investments come with special characteristics that make them superficially attractive to investors, yet far more profitable for brokers. Principal protected notes are a good example.

You may not lose much money buying these investments. You may even make a few dollars. But it is certain that these investments will generate big underwriting fees, followed by a string of management fees. When the structured investment gets redeemed in five or seven years, or sooner, the broker gets an opportunity to sell the investor something new.

After commissions and other fees come out of these investments, there’s little chance that you’ll wind up with a profit to match your risk.

If you have investment-related questions like this, or if you’d like to ask me about stocks you’re considering buying (or selling), you should join my Inner Circle service. Click here to learn more.

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